Straight to the Bottomline co-author Doug Smock’s recent post on product costing has drawn a lot of attention and comments. I have elected to reprint those of Jessica Dunlop, head of ITT Industries’ e-sourcing program. As noted in previous posts, reverse auctions are a key tool in ITT’s sourcing tookit. Here Jessica offers an alternative view on how reverse auctions are a valuable tool for product costing.

I’m not sure I entirely agree with [Doug Smock's] last comments about reverse auctions. If done responsibly with qualified vendors, in my experience e-auctions are a good vehicle to give R&D feedback about the marketability of their new designs. It also shows the business the benefit of involving Purchasing at the front end of new product introduction projects.

If many vendors offer bids for a particular new designed item, then it gives early indication that costs can be kept competitive throughout the product lifecycle, particularly as the item shifts from prototype to manufacturing stages. In addition, it’s an indicator to Purchasing and Quality that supply risk is lower since there is a broader choice of capable vendors.

However, if less than 50% of invited vendors offer bids, it gives the business an opportunity to talk to the invited vendors to find out the difficulties in the design and why there is reduce bid interest. Purchasing can then give feedback to R&D, who then have the option to redesign or leave as is.

If R&D redesigns, they aim to make the item more “marketable” thereby ensuring more vendors are capable to manufacture the item and bid competitive prices in future. Alternatively, the difficult design feature may be key to the new product and must be retained. This gives the business up front knowledge that future cost reductions will be difficult or require face to face negotiations with one or two vendors, and supply risk assessment is critical from the start.

Another benefit from a new product e-auction is that sales and marketing gain realistic expectations of which BOM components may offer easier cost improvements in later stages of the product lifecycle.

If the e-auction results show different vendors competitive at low, medium and high volumes, it also gives Operations a roadmap of the suppliers to use at various product stages as demand ramps or reduces. This gives Purchasing an indication of how to best set up supplier agreements that offer the most flexibility without making over promises to vendors.

The benefit of an e-auction in a new product project is that it can streamline resource and effort to positively impact future profits.

Jessica’s comments are very true. Reverse auctions do get an unfair bad rap. In addition to providing one of the quickest ways to determine true market pricing, manufacturability, (and to some degree future costing), reverse auctions actually bring more integrity and discipline to the sourcing process.

Reverse auctions require buyers to clearly define their specification requirements, rules for engagement, and award criteria at the beginning of the process.

Suppliers benefit by knowing how competitive they are in the negotiation — both in terms of if their bid is too high or too low. Suppliers also benefit by understanding which levers to pull to increase the competiveness of their bid — and the answer is not only to reduce price. Finally, when effectively run, reverse auctions give the supplier assurances of how the business will be awarded. (So they don’t need to fear that another supplier was awarded business based on where they took the sourcing manager to play golf.)

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